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Today's Losers, Tomorrow's Winners: the Secret to Market-Beating Profits

Today's Losers, Tomorrow's Winners: the Secret to Market-Beating Profits

(Dollar Photo Club)

By    |   Thursday, 02 February 2017 02:42 PM

If you only follow one piece of free advice about investing, look no further than the Bible. In the book of Matthew (20:16) we’re informed that: “So the last shall be first, and the first last.”

While that passage is within a broader spiritual context, that line goes to the very heart of investing as well. Stocks that are in favor now will tend to fall out of favor at some point. And the reverse is true. Out-of-favor stocks tend to come back into favor as well.

One simple version of this strategy is to buy the “Dogs of the Dow.” Those are the 5 Dow stocks that performed the worst in the past year. If you had bought the Dogs that existed at the start of 2016, you would have been buying names that seemed as though they’d never outperform the broad market. One Dog was Caterpillar (CAT), the construction equipment giant that’s been reporting declining earnings for years. Caterpillar rose 36 percent last year.

The energy names in the Dow, Chevron (CVX) and ExxonMobil (XOM) were also Dogs last year—and admittedly they got worse before they got better. But oil prices had a strong rebound, and so did these companies as a result.

In fact, during the past six years, this strategy has beaten the whole Dow 30 Index in five of them. And that’s based at buying at the start of the calendar year the worst-performing stocks of the prior year. In short, it’s a great strategy if you want to try and beat the market every year but don’t want to do a lot of trading. And since the Dogs pay dividends, buying a beaten-down one means that you’ll always be buying a decent dividend—something that could grow over time as well.

But it’s not the only way to take advantage of the market’s need to reward some companies while seemingly leaving others out to dry. Markets are dynamic. There are big selloffs in individual companies all the time. And there’s far, far more to the investment universe than 30 ultra-large, fully-established businesses. While they may dominate their respective industries, their fast-growth days are behind them. Smaller companies that have been unfairly beaten down could fare better on their next leg up.

Here’s where things get challenging—but ultimately more rewarding. Smaller companies tend to offer better returns to investors over time. But they’re also more volatile. So buying companies outside the Dow, but still following a Dog-like strategy may mean bigger daily swings. So what? On average, that’ll work out favorably over the course of a year.

I’d say that the Dogs strategy can be safely used with any of the stocks in the S&P 500 Index. That expands the universe of potential investments 16-fold. Some of those have far better growth prospects that Dow stock, and most pay dividends as well.

You also don’t need to follow a strategy that starts on January 1st and then ends on December 31st. Markets tend to have sizeable moves up and down throughout the year, and if you’re looking for new opportunities, blindly following the calendar means passing up a lot of potential investments.

For instance, in January of this year, I’ve been putting money to work in just two companies. Both of them are in the S&P 500 Index. Both have been brutally hit since the start of the year. Both have solid financials and pay above-average dividends.

The first name is Kohl’s (KSS). The clothing retailer posted a modest decline in same-store sales during the 2016 holiday season. Despite a 2 percent drop in sales, Mr. Market decided to take shares down over 20 percent, where they’ve been languishing for a few weeks.

Sure, there’s a lot of fear out there that Kohl’s will go the way of the dinosaur. While that seems to be the trend for retail, I see a world where people still do some shopping at brick-and-mortar stores like Kohl’s. The free market has never created a monopoly, and it never can. High profit margins attract investors, and, frankly, while Amazon (AMZN) can turn on the profits when it wants to, it mostly doesn’t want to.

The second company I’m aggressively adding to, following this “last shall be first” mentality is Qualcomm (QCOM). The wireless chipmaker’s shares also dove over 20 percent in January this year as the FTC, in a 2-1 vote approved by the outgoing chair, claimed that the company was overcharging royalties to Apple (AAPL).

The short version of why this is a non-issue is simple. Qualcomm charges a fixed percentage to license out its chips, based on the sale price of the phone. So, yes, they make more money for every iPhone sold versus, say, a Samsung. But that’s Apple’s fault for having such higher prices.

I see this as a bit of temporary insanity that sometimes grips individual stocks. The key takeaway is that Apple needs Qualcomm’s chips to use its phones—and this FTC complaint simply highlighted that fact. When cooler heads in the market prevail, we’ll see that Qualcomm is well-poised to continue dominating the smartphone sector from behind the scenes thanks to its best-of-breed technology. There’s also why Qualcomm is part of the small group of up-and-coming dividend champions.

I’ll admit: I don’t know what the future will bring. We may see things get worse before they get better in these two stocks. Frankly, I don’t care. Both companies trade at a big discount to the overall market. The market sees companies in terminal decline or danger. I see it as confusing some short-term, solvable issues with longer-term dangers. These are just two companies that had a bad month. It’ll take some time to recover, but from these prices, they offer investors a chance to beat the pants off the rest of the market going forward.

Andrew Packer is a Senior Financial Editor with Newsmax Media. He currently writes the Insider Hotline investment advisory, serves as investment director for the Financial Braintrust, and is managing editor of Financial Intelligence Report.

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If you only follow one piece of free advice about investing, look no further than the Bible.
market, beating, profits, secrets
Thursday, 02 February 2017 02:42 PM
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